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Chapter 20 Reaction Paper

Chapter 20 Reaction Paper



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Published by Steven Sanderson

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Published by: Steven Sanderson on Oct 24, 2007
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 Name: Steven P Sanderson IIDate: 7/17/06Class: Intro to Business BA11 5040Professor: McNamaraThis paper is in reaction to chapter 20 which deals with Securities Markets:Financing and Investing Opportunities. Although common, the term 'the stock market' isa somewhat abstract concept for the mechanism that enables the trading of companystocks. It is also used to describe the totality of all stocks and sometimes other securities,with the exception of bonds, commodities, and derivatives. The term is used especially toapply within one country as, for example, in the phrase "the stock market was up today",or in the term "stock market bubble". Bonds are still traditionally traded in an informal,over-the-counter market known as the bond market. Commodities are traded incommodities markets, and derivatives are traded in a variety of markets (but, like bonds,mostly 'over-the-counter'). The size of the worldwide 'bond market' is estimated at $45Trillion; the size of the 'stock market' is estimated as about half that. The worldderivatives market has been estimated at about $300 Trillion. The major U.S. Banksalone are said to account for about $100 Trillion. The stock market is distinct from astock exchange, which is an entity (a corporation or mutual organization) in the businessof bringing buyers and sellers of stocks and securities together. For example, 'the stock market' in the United States includes the trading of all securities listed on the NYSE, the NASDAQ, the Amex, as well as on the many regional exchanges, the OTCBB, and Pink Sheets. European examples of stock exchanges include the Paris Bourse (now part of Euronext), the London Stock Exchange and the Deutsche Börse.To understand any of this a few aspects must be explained. First the capital market(securities markets) is the market for securities, where companies and the governmentcan raise long-term funds. The capital market includes the stock market and the bondmarket. Financial regulators, such as the U.S. Securities and Exchange Commission andthe Financial Services Authority in the UK, oversee the markets, to ensure that investorsare protected against misselling. The capital markets consist of the primary market, wherenew issues are distributed to investors, and the secondary market, where existingsecurities are traded. The capital market can be contrasted with other financial marketssuch as the money market which deals in short term liquid assets, and derivatives marketswhich deals in derivative contracts. Both the private and the public sectors providemarket makers in the capital markets. As mentioned before there are a primary andsecondary market. The primary market is that part of the capital markets that deals withthe issuance of new securities. Companies, governments or public sector institutions canobtain funding through the sale of a new stock or bond issue. This is typically donethrough a syndicate of securities dealers. The process of selling new issues to investors iscalled underwriting. In the case of a new stock issue, this sale is called an initial publicoffering (IPO). Dealers earn a commission that is built into the price of the securityoffering, though it can be found in the prospectus. The secondary market is the financialmarket for trading of securities that have already been issued in an initial private or  public offering. Alternatively, secondary market can refer to the market for any kind of 
used goods. The market that exists in a new security just after the new issue is oftenreferred to as the aftermarket. Once a newly issued stock is listed on a stock exchange,investors and speculators can easily trade on the exchange, as market makers provide bidsand offers in the new stock.In the secondary market, securities are sold by and transferred from one investor or speculator to another. It is therefore important that the secondary market be highlyliquid and transparent. Before electronic means of communications, the only way tocreate this liquidity was for investors and speculators to meet at a fixed place regularly.This is how stock exchanges originated.Secondary markets are vital to an efficient and modern capital market. Fundamentally,secondary markets mesh the investor's preference for liquidity (i.e., the investor's desirenot to tie up his or her money for a long period of time, in case the investor needs it todeal with unforeseen circumstances) with the capital user's preference to be able to usethe capital for an extended period of time. For example, a traditional loan allows the borrower to pay back the loan, with interest, over a certain period. For the length of that period of time, the bulk of the lender's investment is inaccessible to the lender, even incases of emergencies. Likewise, in an emergency, a partner in a traditional partnership isonly be able to access his or her original investment if he or she finds another investor willing to buy out his or her interest in the partnership. With a securitized loan or equityinterest (such as bonds) or tradable stocks, the investor can relatively easily sell his or her interest in the investment, particularly if the loan or ownership equity has been brokeninto relatively small parts. This selling and buying of small parts of a larger loan or ownership interest in a venture is called secondary market trading.Under traditional lending and partnership arrangements, investors may be less likely to put their money into long-term investments, and more likely to charge a higher interestrate (or demand a greater share of the profits) if they do. With secondary markets,however, investors know that they can recoup some of their investment quickly, if their own circumstances change.With all of this said we now need to know what the role of a stock exchange like the NYSE is. The Stock Exchange provides companies with the facility to raise capital for expansion through selling shares to the investing public. When people draw their savingsand invest in shares, it leads to a more rational allocation of resources because funds,which could have been consumed, or kept in idle deposits with banks, are mobilized andredirected to promote business activity with benefits for several economic sectors such asagriculture, commerce and industry, resulting in a stronger economic growth and higher  productivity levels. Companies view acquisitions as an opportunity to expand productlines, increase distribution channels, hedge against volatility, increase its market share, or acquire other necessary business assets. A takeover bid or a merger agreement throughthe stock market is the simplest and most common way to company growing byacquisition or fusion. The Government and even local authorities like municipalities maydecide to borrow money in order to finance huge infrastructure projects such as sewerageand water treatment works or housing estates by selling another category of securities

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